Rental Property Basis calculation for depreciation

[jclem06]

So I know the general premise behind basis/depreciation calculation but not sure about my specific situation. So, given the details below, what would be my basis?

- house purchased in 2017 as primary residence, $105,265 purchase price + $4,052.59 (=$109,317.6) in closing costs (lender fees, appraisal, title fees, taxes)

- 2017 assessment, $140,200 (building $116,200/ land $24,00)

- Aug1 1, 2018 home became full rental

- 2018 assessment, $155,300 (building $131,300/ land $24,00)

Since the house was placed into service on Aug 1 2018, I know that would be the start date for the depreciation schedule. I'm a little confused on what figure to start my basis calculation. from my research it seems the basis is derived from my purchase price and what percentage gets allocated to the building using tax assessment.

From 2018 tax assessment: $131,300/$155,300=84.5% is building value, so applying that percentage to my purchase price and costs, $109,317.6 * .845= $92,373.4 basis. Would this be the correct way to approach this?

My personal logic would be to use the full $131,300 + costs as the basis. In my head the purchase price is irrelevant, for example if I purchased for a $1, the building is still worth $131,300. I know the gov't will want the money back at recapture so I want to make sure I get the basis right and not leave any money "on the table". Thanks!

[jclem06]

I think I found my answer here: https://www.irs.gov/publications/p527#en_US_2018_publink[phone number removed]

"When you change property you held for personal use to rental use (for example, you rent your former home), the basis for depreciation will be the lesser of fair market value or adjusted basis on the date of conversion."

So since my adjusted basis is the lesser of the fair market value ($170,000 appraisal) then it seems my basis is the figure $92,373.4.

Please correct me if I'm wrong, Thanks!

[NCperson]

The logic is sound.... the depreciation is always based on the purchase price - the assessed value is irrelevant

What did the appraisal use for the land value? That is probably a better representation of the value of the land vs. the assessment . If appraisal is not available, then use the assessment closest to the purchase date to determine the percent related to the land because it should be based on the purchase date - not the assessment date

You may want to review the closing costs though. Property taxes can be expensed - no need to capitalize

[tagteam]

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@NCperson wrote:
You may want to review the closing costs though. Property taxes can be expensed - no need to capitalize

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Absolutely, and note that charges connected with obtaining a loan (mortgage), such as fees and appraisals required by the lender, cannot be included in the basis.

See https://www.irs.gov/publications/p523#en_US_2018_publink100010751

[jclem06]

@NCperson  So even though the property was my primary for 1.5 years prior to rental, I would still use the purchase price and land value from date of purchase to determine basis? I guess I was leaning toward using the values at the start of service date??

@tagteam  thanks for the link to what I can include in the basis. doesn't look like much of the closing costs are allowed.

Thank You both for your replies.

[tagteam]

@jclem06 You had it correct in your previous post; you use the lesser of the fair market value of the property on the date you changed it to rental use or your adjusted basis on the date of the change.

See https://www.irs.gov/publications/p527#en_US_2018_publink1000219153

[NCperson]

Correct - must use the purchase price for purposes of determining depreciation and not date the property was converted to investment

Let’s say you bought the house for $100,000 years ago and it’s now worth $10 million and you convert to investment property ... IRS will not give you the benefit of depreciating that gain and its cash flow benefit.. you haven’t even paid capital gains tax yet!!!! they expect you to depreciate based on the $100,000.... see the point???

[NCperson]

I agree with tag team .... since the cost basis (which is the purchase price plus applicable closing costs) is lower than the market value at the point it went into service, The original cost basis is used to determine depreciation

[jclem06]

@NCperson @tagteam 

One last question, am I able to include in adjusted basis, cosmetic updates that I made just prior to service date? Things like painting interior, plumbing fixtures, electrical fixtures, new front door....

Thank You both!

[NCperson]

I’d say those are rally maintenance items that are just expenses....

Why did you pick Aug 1 as the service date?

Did all these items occur before or after you moved out of the house ... did they occur before or after the services date?

If after the service date then they are expenses items.... if before you moved out, that can be a challenge to say they were other than personal expenses...

[jclem06]

@NCperson  they all occurred before the service date, while I'm still occupying the property. I see your point, thanks.

[jclem06]

@NCperson 

"Why did you pick Aug 1 as the service date?"

Aug 1 is when the lease executed and tenants took over. However I did advertise before that, forgot about that time. I believe once you advertise that starts the service date, correct?

[tagteam · Accepted solution]

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@jclem06 wrote:
 I believe once you advertise that starts the service date, correct?

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Yes. Rental property is considered "placed in service" when it is ready and available for that specific use (i.e., ready to rent).

See https://www.irs.gov/publications/p527#en_US_2018_publink1000219036